Arab banks, as well as, banks in other emerging markets, are facing the challenge of globalization, deregulation and greater competition. They need to make substantial investments in technology to stay competitive and continue to generate high returns to their shareholders. Many of them are finding they have no choice but to consolidate. The aim is to reduce operation costs, minimize duplication, spread huge technology expenses over a wider base, cut on the number of branches and benefit from economies of scale.

Several Arab countries are over banked (e.g. Lebanon, Jordan, UAE, Bahrain) and they need to encourage mergers and acquisitions (M&A) among domestic institutions. The process has started encouraged by various incentives given by the region’s central banks and monetary authorities. The large Arab banks believe they are less constrained by the size of their capital and more, by the size of the markets they are operating in. These banks are finding it difficult to attain growth in their domestic markets and see the merits of going regional.

Because the prospects for banks to be licensed to branch regionally is slim, their expansion strategy could be implemented either by acquiring fully existing banks (e.g. ABC buying Egypt Arab African Bank), or taking a minority interest in other banks (e.g. Emirates International Bank buying 10 percent of Bank of Beirut, Societe Generale of Lebanon acquiring 35 percent of Jordan’s Middle East Investment Bank). There are also prospects of establishing a strategic alliance with another bank to work closely on specific deals, share products and expenses and broaden customers base.

Arab banks are also confronted with the radical changes taking place in the banking and finance industry worldwide. The distinction between commercial banks, investment banks, brokers, insurers and bond managers will become less and less important. Instead of developing these services internally, some banks with the ambition to provide comprehensive financial services will find it more advantageous to acquire institutions that have these services. The process has started, Bank Audi of Lebanon acquired Lebanon Invest (an investment bank), while Byblos Bank merged with an insurance company to provide Bankassurance services.

The last few years saw a handful of successful M&A deals in the region. These were mostly between profitable and well managed institutions, who saw a natural fit or a complementarity with a counterpart with whom they merged. Similarity of size was less important than similarity of outlook. Two weak institutions put together do not produce a strong institution. On the contrary, such a merger will add to the existing problems of the two institutions and could make things worse for management.

Banks should not merge simply to benefit from the incentives given by the monetary authorities to encourage consolidation among domestic financial institutions. It should be a well studied business decision based on the ability of the merged institutions to add value and increase return to their shareholders’ equity. In the Western world, where most banks are listed companies, management which is completely separate from ownership, is the one that leads the merger process. In the Arab world, banks are still predominantly owned by a family or group of families. This is particularly the case in several Gulf countries, Lebanon and Jordan. In Egypt, Syria, Qatar and UAE, governments still feature as major shareholders of large banks. In those cases, the management is not necessarily in control and decisions are not always made on the basis of maximizing shareholders value. Prominent families whose ownership of banks reflect their social and political power and prestige would resist M&A deals in order not to lose their dominance.

Recent experiences indicate that the success or failure of mergers and acquisitions have much less to do with faulty selection or for paying too much for an acquired bank, and more with what went wrong after the deal in sealed. The clash of cultures in the two institutions, the self interests of two different boards and different CEOs, the demoralization of the staff of the acquired bank and the absence of a well thought of process on how to proceed were the main reasons for failure.

Mergers should avoid the speed trap, it is more important to make the right decisions than to make them quickly. The communication process should start as early as possible and as far down as possible. Employees at all levels should be involved to feel more committed to the new entity. The board and management rivalry should be tackled from the start to come up with a well defined and agreed upon management structure and business plan. To cut rivalry between two CEOs, banks who merge could opt to have two Co-chief executives (similar to Citigroup and Travelers when they merged in 1998) or have an executive chairman and a CEO, with the relationship between them well defined from the beginning.

In most Arab countries, banks do not have the freedom to hire and fire easily as it is the case in the West and especially in the US. Since an important benefit of M&A is to reduce duplication and cut down on staff expenses, the absence of such a benefit will discourage the M&A process in the region. The legal and monetary authorities should introduce laws that allow institutions that merge to reduce the number of employees, and banks should be compensated for the extra cost incurred if a huge severance pay is to be given to those laid off.

In M&A deals the emphasis should be on the marriage and not the wedding. The hardest questions should not be left till after the merger deal is done. Banks that agree on a clear strategy and management structure before they tie the knot stand a better chance of living happily ever after.